10-Yr Swap Spreads hit their lowest level since 1988 on 3/9/10 hitting 3.25.  How many more days until they go negative? (Click on chart to enlarge)

10-Yr Swap Spread

Go short Treasuries, its the most obvious trade ever right?  While they might go up or down the MOVE Index continues to forecast less and less volatility, which at least to us indicates that the market is not expecting yields to change a whole lot anytime soon. (Click on chart to enlarge)

MOVE Index

Not sure if Chanos is right on China being in a huge bubble, but looking at the chart it appears as though at least a few investors are less than bullish. (Click on chart to enlarge)

FXI China ETF

We just crossed the one year anniversary of the current rally/bull market the other day.  Over that time on a weekly closing basis the SP500 is up over 66%.  This has been the largest one year rally in over 60 years.  We are starting to hedge our long exposure as we are currently cautiously bullish. (Click on chart to enlarge)

SP500 1-Yr Rolling Returns

Back in December we shorted the Euro on the basis of the EU being weak, overvalued, and sentiment becoming far too one sided.  In these pages we also looked at buying the USD on a technical basis. Looking at the USD and T-Bills however shows another reason for the USD rally. (Click on chart to enlarge)

US Dollar and T-Bill Yield

Happy Trading,

Dave@TheMacroTrader.com

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We run several different models that help us to determine what the market is favoring in regards to style-growth/value and size-market cap and right now they are pointing to a potential mean reversion trade going long Large Cap Value against Small Cap Growth.

Looking at the chart below you can see that over essentially the last decade the Russell 1000 Value and Russell 2000 Growth ratio has reached extremes around 1.00 and .82.  We are obviously nearing the lower end of the range where the Russell 1000 Value index typically takes over. (Click on chart to enlarge)

Russell 1000 Value/Russell 1000 Growth ETF Ratio

Since these types of mean reversion trades can last for a few years at a time it is important to look at as much data as possible.  Looking at monthly Russell data from 1979 to now you can see in the lower panel below that when normalized using a 36 month moving average that the ratio is more than one standard deviation away from the norm.  While it has been, and could definitely become more extended we are looking at this as a potential pairs trade using the ETF’s IWD for the Russell 1000 Value and IWO for the Russell 2000 Growth indexes. (Click on chart to enlarge)

R1KV/R2KG Ratio and Mean Reversion Charts

We also like the fundamentals of this trade.  If as we believe we are going to see what we are calling a slowth (slow growth) period for at least the next year or so and possibly for the next five plus years (what PIMCO calls the “new normal”) it would follow that the market would start to back out of small cap growth stocks and go to areas where there is more safety of principal as well as decent and reliable dividends.   This area typically is large cap value where most of the companies are diversified across the globe, across product lines, and have large cash positions.  In addition to the macro landscape, on a valuation/expected returns standpoint this area is also favored by some well known asset class return forecasts such as the GMO 7-Yr forecast seen in the chart below. (Click on chart to enlarge)

GMO 7-Yr Forecasts for US Stocks

Disclaimer-The Macro Trader currently does not hold any of these securities.

Happy Trading,

Dave@TheMacroTrader.com

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Back in December when we wrote our post “Is It Finally Time To Sort The Euro” we got a lot of flack for saying that the US Dollar was bottoming out and that the Euro was going to drop.  We received e-mails telling us about all of the problems with the US and why the Dollar is going down forever.  Our basic answer has been that while the US has tons, and by tons we mean trillions upon trillions, of problems the US Dollar is not going the way of toilet paper anytime soon.

While we knew of many of the problems in the EU when we wrote our post we had no idea how bad and how fast they would manifest themselves.  As you can see in the chart below since our post the Euro has broken down, consolidated at the 200-day moving average, and then broke down some more. (Click on cart to enlarge)

EUR/USD Daily Chart

So what do we see going forward?  In our earlier post we showed a chart of the EUR/USD purchasing power parity that showed the Euro as being 35% overvalued relative to the US Dollar.  As you can see in the chart below the Euro has narrowed the valuation gap considerably but is still 22% overvalued to the USD.  We would not be surprised to see the EUR/USD hit the 2008 lows around 1.25 before finding strong support.  (Click on chart to enlarge)

EUR/USD PPP Chart

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-In The Macro Trader newsletter we are short the EUR/USD

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One trade that we currently like is that of shorting the EUR/SEK.  As you can see in the chart below the Euro has been losing ground to the Krona for most of the past year.  It formed a large head and shoulders top and then consolidated in a long bear flag until recently breaking down.  We think that this trade could go down to 9.5 over the next few months. (Click on chart to enlarge)

EUR/SEK Weekly Chart

We have been bearish on the Euro for some time now and lately the news has been going our way as many of the problems that were buried have been coming to the surface.  Not only is Greece in shambles but Spain, Italy, and Portugal are also near disaster as their debt costs continue to go up while their economies languish.  As the PIIGS continue to worsen there is more and more momentum building that could eventually kill the Euro.  We doubt that this happens any time soon but if the PIIGS are unable to correct their course it will happen.

Along with our negative view on the Euro another  thing that we really like about this trade is the extreme overvaluation of the Euro relative to the Swedish Krona.  As you can see in the chart below the Euro is trading at a 42.58% premium to the Swedish Krona.  While it has been outside of the 20% bands for a while now, we think that it is due time for a major correction on the weakness in the Euro and the relative strength of the Krona. (Click on chart to enlarge)

EUR-SEK PPP Chart

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-In The Macro Trader newsletter we are short the EUR/SEK

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Since the Match 2009 bottom many correlations have held extremely well.  We covered one in a previous post titled “US Dollar Correlation Breaking Down” and other ones here.  We can now add one more broken correlation to the mix.  TIPS and GOLD have been trading very much inline with each other over the last nine months or so.  The primary reason for the correlation is that since they are both seen as inflation hedges they should trade together.

As you can see in the chart below gold and TIPS have trade very much in line for most of the last nine months.  Over the past two weeks however the two instruments have diverged with TIPS going higher and gold going lower. 

GLD-Gold ETF and TIP-TIPS ETF

So the big questions are why are these diverging and how can we make money from it.  You irst have to decide if you think inflation is going up or down and if you think TIPS and Gold are good inflation hedges.  If gold is a good hedge and you think that inflation is going to increase then you would want to be a buyer of gold.  If you think that inflation is set to decrease or that inflation expectations are overdone then you would likely want to short TIPS.  The other main way to trade this is to bet on a convergence and a return to correlation.  To take advantage of this you could buy gold and short TIPS.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-No positions in the securities mentioned.

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It has been a while since the last time we posted our global GDP weighted yield curve.  While it has been months it might as well have been a day as nothing has really changed.  After being inverted for all of 2007 and most of 2008 the yield curve flipped and became extremely positive as central banks worldwide lowered short term rates.  You can see this very clearly in the chart below of the G-10 nations short and long term rates. In spite of Australia raising theirs, short term interest rates remain extremely low everywhere else.

G-10 Short and Long Term Interest Rates

Another way to look at interest rates and in fact the title of this post is by using the global GDP weighted yield curve.  In the chart below you can see the global yield curve.  While it has fluctuated it has essentially gone nowhere for the last eight months.

Global GDP Weighted Yield Curve

So whats The Macro Traders outlook?  We think that things will remain more or less the same for most if not all of 2010.  On the deflationary side banks have not started to lend, real estate is not going up anytime soon, debt deleveraging is in overdrive, unemployment is as bad as ever, etc.  On the inflation side commodities are up, stocks are up, and bonds are up.  At best we would call this a standstill.  So while we could envision long term rates going higher on credit risk, yes we think that sovereign debt is full of credit risk, we think that short term rates will remain low for most if not all of 2010.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader is long TLT

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Here is a shocker…..in spite of rising stock and bond markets and the supposed V shape recovery more and more families continue to go 90 days or more delinquent on their mortgages.  As you can see in the chart below since June of 2007 delinquencies have risen every single month. (Click on chart twice to enlarge)

Freddie Mac Delinquencies

To put this into perspective let’s drill down into the numbers a bit.The historic average delinquency rate for non-credit enhanced is .71% and the current reading is 2.88%.  The historic average rate for credit enhanced is 2.81% and the current reading is 7.84%.  The historic average rate for total is 1.08% and the current reading is 3.72%.  And finally the historic average rate for multi-family is .04% and is currently at .14%.  In case you haven’t noticed the current reading on each of these is anywhere from 2.8 to 4.08 times their historic average.

This is just one of the indicators pointing to further weakness in residential real estate.    One potential trade that we are following is that of shorting IYR.  For now we are just stalking it as it continues to move higher but we expect that in the next one or two months the reality will once again hit home and investors will start paring off some of their gains as the underlying fundamentals do not justify current prices let alone higher ones.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader currently holds no positions in housing related stocks.

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Over the past year one of the biggest themes has been to short the US Dollar and go long anything that is considered risky.  If you bought stocks, any grade of corporate bond, commodities, even real estate stocks and you would have made money.  Many strategists, The Macro Trader included, used the falling US Dollar as a reason to go long stocks, bonds, commodities, etc.  The reason of course is that since the March bottom the USD and the SP500 have been almost perfectly inversely correlated.  Well that relationship appears to be breaking down right now as the US Dollar has been rallying and other risk assets have not been falling in sympathy.

In the chart below you can see how as the US Dollar has fallen, the SP500 has risen.  In fact when there is a wiggle in the USD there is an opposite move in the SP500.  As you can see in the bottom right hand corner the USD is rallying while in the top right hand corner the SP500 is still looking strong. (Click on chart twice to enlarge)

US Dollar vs SP500

Of course if this inverse correlation is falling apart the correlation between the SP500 and the Euro is also falling.  Apparently, at least for now, you are able to be short the EUR/USD and still be long stocks and make money.  Looking at the chart below you can see almost the exact opposite of what we see with the US Dollar.  As the SP500 has moved higher the Euro has climbed as well until the last few weeks as the Euro has tumbled and equity markets as well as other risk assets have managed to remain strong and in many cases hit new highs. (Click on chart twice to enlarge)

Euro vs SP500

What do we take from this?  One thing is that the carry trade using the US Dollar was not as heavy as many people feared.  Another thing is that the market is always changing and that many intermarket relationships work well in some periods and fall apart in others.  As always it is important that we have solid risk management principles and that we are open to change.  For now we are short the EUR/USD and long equities…but that could change tomorrow.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader is long several equity index ETFs such as IWF, EWZ, and MOO and we are short the FXE-Euro ETF.

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: US Dollar Correlations Breaking Down
URL: http://www.themacrotrader.com/2009/12/16/us-dollar-correlations-breaking-down/

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Yesterday we wrote about how we feel that the Euro is headed lower due to overvaluation, the technical picture, and market positioning.  In light of that we thought that we would show the technical picture of the US Dollar index.

In the chart below you can see a chart of the US Dollar index all the way back to 1971.  In the lower panel we have plotted the distance from the 200-day sma shown as a percentage.  Not surprisingly the index rarely strays more than 10% away from the 200-day.  In fact since 1971 it has only gone above or below by 10% 11 times.  Since 1992 it has only breached the 10% level once back in 2008 in the midst of the financial crisis. Right now we are close to the lower levels of a typical move.  Could it go lower?  Of course the answer is that yes it can, but if history is any guide we doubt that we have much lower to go before a decent sized bounce. (Click on chart twice to enlarge)

US Dollar Index

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-In The Macro Trader newsletter we are currently short the EUR/USD

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Is It Time To Buy The US Dollar?
URL: http://www.themacrotrader.com/2009/12/10/time-for-us-dollar/

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We have been bearish on the EUR/USD for some time now.  Some investors are convinced that the USD is going down forever and that the US is the next Zimbabwe.  The reality is that while the United States has a ton of issues such as the huge and rapidly expanding deficit, the rest of the world is not exactly in great shape either.

One of the weaker areas of the world happens to be the European Union.  They continue to have issues such as Spain and its almost 25% unemployment rate, the IMF estimate that EU banks have only written off 50% of their bad debt, and the potential for major defaults in Eastern European nations.

The timing for a short position is starting to look right.  As you can see in the chart below on a purchasing power parity basis the Euro is 35% overvalued to the USD.  In previous periods of over and undervaluation this is past the levels that are typically seen before a reversal of trend. (Click on chart twice to enlarge)

EUR/USD PPP

Another indicator that we follow is that of FX risk reversals.  Risk reversals essentially show how option traders are positioned.  A negative reading means that option traders expect a move lower and positive reading mean that they expect a move higher.

Typically we look for contrarian signals at the extremes, usually when the reading is very negative or positive the trade is crowded and the price goes in the opposite direction.  This time however is a bit different as option traders are extremely bearish but the spot price has remained strong.  Because of this we suspect that if the price breaks we could see a swift move lower.(Click on chart twice to enlarge)

EUR/USD 25R 3M Risk Reversal

Looking at the chart below of the Euro ETF you can see that the price has broken below its current trend line.  In the lower panel you can also see that we also have had a momentum divergence during the last part of the advance.(Click on chart twice to enlarge)

FXE-Euro ETF

All of these signs point to a lower Euro.  We think that the timing is right to dip our toes in the water.  If the trade starts to move in our favor we will be looking to add to it as it could move quite a bit lower due to how overcrowded the trade is, valuations, and the fact that the EU in our view is just as broken as the US.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-we are currently short the Euro in The Macro Trader newsletter.

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Is it Finally Time To Short The Euro?
URL: http://www.themacrotrader.com/2009/12/09/shorting-the-euro/

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